Validea's Guru Investor Blog

While the rapid rise in index funds over the past few decades is a “feel-good story—a populist victory, as finance goes” says an article in last month’s The Atlantic, there’s a growing number of experts arguing that passive investing is “strangling” the economy.’

The article cites research conducted in 2014 (by economist Jose Azar, Martin Schmalz and Isabel Tecu) to test whether airfares had been influenced by the growth of large shareholders—in other words, to determine whether common share ownership led to a less competitive economic environment. The researchers reported that airline ticket prices were “as much as 12% higher than they otherwise would have been because of common ownership of shares.” On a broader scale, the research suggests than an economy in which “incentives for companies to compete and to innovate are smaller than Americans mighty typically believe, and the opportunities to gouge customers larger.”

While the paper went viral among academics, the article report, managers of index funds have argued against the findings. Azar told The Atlantic that “common ownership is less problematic if index funds own only a small share of a company’s stock, or if the company has other very large shareholders who don’t also own shares in the company’s competitors.”

A revised version of the paper was published in March of this year in which, the article says, the authors are more “circumspect” about their findings, but the conclusions remain intact—although the jury still seems to be out as to whether the findings are accurate.